Exxon Makes Another Forward-Looking Move

by Aaron Levitt | September 25, 2012 7:30 am

Exxon Makes Another Forward-Looking Move

When it comes to strategic purchases, Exxon Mobil (NYSE:XOM[1]) could be at the top of the list. The integrated giant’s $35 billion buy of XTO Energy back in 2010 set the stage for the hydraulic fracturing revolution and made Exxon the biggest natural gas player in the U.S. More recently, Exxon has begun to make tactical inroads into new unconventional territory such as the Russian Arctic[2].

All in all, these forward-thinking purchases and exploration efforts have allowed Exxon to zig when other firms have zagged — keeping it ahead of the energy curve.

Well, Exxon hasn’t stopped dealing, and the latest couldn’t have come at a better time. With the price of natural gas and natural gas liquids[3] — like propane and ethane — continuing to fall, Exxon has gone for the shale oil gusto. The latest blockbuster purchase nearly doubles the size of its acreage in the oil-rich Bakken shale and improves its overall energy mix. With the glut of natural gas and NGLs not subsiding anytime soon, Exxon has positioned itself to take advantage of any energy pricing scenario ahead.

For investors, that strengthens the integrated giant’s appeal.

The Largest Purchase Since XTO

For only $1.6 billion dollars and the exchange of some assets, the world’s largest publicly traded energy company is seeking to boost its crude oil output. Exxon will acquire drilling rights on 196,000 net acres in North Dakota’s and Montana’s oil-rich Bakken shale from Denbury Resources (NYSE:DNR[4]). This agreement will boost Exxon’s holdings in the region by about 50% to roughly 600,000 net acres and make it one of the region’s largest players[5].

Overall, the purchased Bakken acreage is expected to produce nearly 15,000 barrels of oil and other hydrocarbons per day in the second half of this year. Exxon CEO Rex Tillerson expects the acreage to produce more as hydraulic fracturing technology continues to improve.

The deal is worth $2 billion, if you include the two fields in Wyoming and Texas that Denbury is getting. That’s relatively tiny for Exxon, which produced an average of 4.2 million barrels of oil equivalent per day in the second quarter. However, the purchase does mark its largest acquisition effort since the $35 billion XTO deal back in 2010.

Drilling activity in the Bakken has soared in recent years, recently passing 610,000 barrels per day and now accounting for nearly 10% of total U.S. production. The Bakken alone has helped fuel the biggest jump in domestic oil production[6] in more than 40 years, and North Dakota recently passed Alaska and California to become the second-biggest oil-producing state behind Texas.

Output from the Bakken — which spans roughly 200,000 square miles across North Dakota, Montana and Canada — is expected to double to about 1.2 million barrels per day by 2015 as the use of technologies like hydraulic fracturing and horizontal drilling continue to get better. Bakken-benchmarked crude began trading at a premium to West Texas Intermediate this month as various producers skirted pipeline bottlenecks by shipping it to refiners by rail.[7]

A Great Buy

The purchase makes a lot of sense for both Exxon and its long-term shareholders.

The addition of Denbury’s fields will catapult Exxon into fifth place when it comes to the largest holders of Bakken acreage. That ties it with EOG Resources (NYSE:EOG[8]) and gives Exxon a top spot in a critical oil-focused region.

The XTO purchase made Exxon the king of the natural gas hill, but as hydraulic fracking has grown in prominence[9], natural gas and NGL prices have plummeted. Natural gas prices reached a 10-year low back in April on the New York MERC, and some analysts predict more pain coming for the sector. Overall, the purchase increases Exxon’s U.S. oil production by about 3%, and with oil prices continuing to stay high, the deal helps limit some of the short-term pain from gas.

Another factor is that production at a variety of major energy firms has slipped during the past few years as legacy wells have begun to dry up. Generally, when exploration and production firms can’t find oil quickly enough, they’re stuck with aging fields where overall output is declining[10]. That’s a very costly proposition.

So while this new deal isn’t huge based on Exxon’s total size, any small addition to its production base helps replace all the hydrocarbons it’s extracted. Given Exxon’s expertise in advancing the science of fracking, the fields should produce quite a bit of shale oil for years to come.

Finally, Exxon may have gotten a good deal when it comes to pricing. Denbury’s real forte is using carbon-dioxide to help pump out more crude oil from aging wells. Its Bakken assets didn’t necessarily fit into its overall business model and were some of “worst” performing based on internal rates of return.

However, other smaller players in the region — like Continental Resources (NYSE:CLR[11]) and Whiting Petroleum (NYSE:WLL[12]) — are very Bakken-specific firms. With analysts predicting that more of the majors will come hunting for Bakken and shale oil assets[13], paying for a firm like Continental will be a very expense proposition indeed. For roughly $2 billion, Exxon may have gotten away with a steal.

Overall, the Bakken deal represents another forward-thinking purchase by Exxon and helps strengthen the idea that it should belong in your portfolio.[14]

As of this writing, Aaron Levitt doesn’t own any securities mentioned here.